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Overhead, Budgeted, Absorb Overhead,

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									Overheads :: Budgeted, Incurred, Absorbed : Budgeted Rates,
Absorption Rates


A budget is a depiction of the future activity in quantitative terms. The budget may be for a particular period or a production
process. E.g.:

01. The production budget gives the details relating to the production that is planned to be achieved over the budgeted
    period.
02. The production cost budget gives the details relating to the cost that would be incurred for achieving the budgeted
    production. This budgeted production cost includes both the variable overhead as well as the fixed overhead.

• Budgeted/Normal Activity
The activity that is budgeted to be achieved over the budgeted period or process is called Budgeted Activity. The activity may
be measured in terms of output, input, labor/labor time worked, machine hours worked, etc. Since the budgeted activity
would be the activity that should be achieved under normal circumstances, it is also called normal activity.

The two most common measures of budgeted activity that we deal with in analyzing overhead variances are

» Budgeted Output
         The output that is budgeted to be achieved over the budgeted period or process.

         This is the output that would have to be achieved if things go according to plans.

» Budgeted Time
         The time for which the production process is budgeted to be carried on over the budgeted period or process.

         This is the time for which production process would have to be carried on if things go according to plans.

• Budgeted (Overhead) Rates
The rates considered for absorption of overheads in preparing the budgets are what are called budgeted rates. These are
nothing but the standard (pre-determined) rates of absorption of overheads (since budgets are always based on the
standards).

The two types of absorption rates that we consider in variance analysis are

» Budgeted Rate per unit
           Budgeted (Overhead) Cost
         = ------------------------------
              Budgeted Output
This rate is generally identifiable from the budgeted data that is presented.

Rate per unit would be interpreted as

        "Variable overhead Rate" per unit for analyzing Variable Overhead Variances
        "Fixed overhead Rate" per unit for analyzing Fixed Overhead Variances
        "Total overhead Rate" per unit for analyzing Total Overhead Variances

» Budgeted Rate per hour (unit time)
   Budgeted Overhead Cost
=--------------------------------
   Budgeted Hours (Time)
This rate is identifiable from the budgeted data that is presented.

Rate per hour (unit time) would be interpreted as

       "Variable overhead Rate" per hour (unit time) for analyzing Variable Overhead Variances

       "Fixed overhead Rate" per hour (unit time) for analyzing Fixed Overhead Variances

       "Total overhead Rate" per hour (unit time) for analyzing Total Overhead Variances

• Budgeted (Overhead) Cost
The amount of overhead cost that is budgeted, to be incurred during a period or process, i.e. for the Normal/Budgeted
activity.

It is obtained as the product of the Budgeted Activity and the Budgeted Rate (i.e. the Pre determined rate of absorption of
overhead).

» Budgeted Cost
= Budgeted Output × Budgeted Rate per unit.
This is relevant when the overheads are being absorbed on per unit basis.
= Budgeted Time × Budgeted Rate per hour (unit time).

This is relevant when the overheads are being absorbed on per hour basis.

» Budgeted Overhead Cost would be interpreted as
 Budgeted Variable Overhead Cost for analyzing "Variable Overhead Variances"

        The rate in such a case would be "Variable Overhead Rate" per unit/hour.

 Budgeted Fixed Overhead Cost for analyzing "Fixed Overhead Variances"

        The rate in such a case would be "Fixed overhead Rate" per unit/hour.

 Budgeted Total Overhead Cost for analyzing "Total Overhead Variances"

        The rate in such a case would be "Total overhead Rate" per unit/hour.




This pertains to the actual data is obtained

• Actual Activity
        This is the activity that is actually achieved during the production period or process. It may be measured in terms of
        output, input, labor/labor time worked, machine hours worked, etc.

        The two most common measures of activity that we deal with in analyzing overhead variances are

» Actual Output
        The output that has actually been achieved over the production period or process.

» Actual Time
        The time for which the production process is actually carried on over the production period or process.
• Actual (Overhead) Cost » Incurred (Overhead) Expenditure
This is the actual overhead expenditure/cost incurred. This can be ascertained only after the incurrence of the cost i.e. at the
end of the period or process in consideration.

The total overhead incurred is segregated into

         Variable Overhead Expenditure/Cost

         Fixed Overhead Expenditure/Cost

         Semi-Variable Overhead Expenditure/Cost

• Where there are Semi-Variable Costs
If semi-variable overheads form a part of the total overhead cost/expenditure, it is segregated into two One a fixed part and
the other a variable part.

Since there are no tools to analyses semi-variable overheads separately, we add up the fixed part of the expense to Fixed
Overhead Cost and the variable part of the expense to the Variable Overhead Cost respectively, for the purpose of variance
analysis.

Therefore,

         Fixed Overhead Cost/Expenditure Incurred

    = Fixed Overhead Cost/Expenditure + Fixed part in semi-variable overhead Cost/Expenditure

         Total Variable Overhead Cost/Expenditure Incurred

= Variable Overhead Cost/Expenditure + Variable part in semi-variable overhead Cost/Expenditure

The actual overhead cost/expenditure incurred would be interpreted as

         Variable Overhead cost/expenditure incurred for analyzing "Variable Overhead Variances"
         Fixed Overhead cost/expenditure incurred for analyzing "Fixed Overhead Variances"
         Total Overhead cost/expenditure incurred for analyzing "Total Overhead Variances"




Absorbed overhead is the amount of overhead cost that is absorbed into total cost based on the predetermined rates of
absorption of overheads. The overhead absorbed is always dependent on the actual activity.

 Where the overheads are being absorbed on a unit basis, the amount of overhead absorbed is dependent on the actual
    number of units produced.
    Overhead Absorbed = Actual Units Produced × Rate of Overhead Absorption (per unit)
 Where the overheads are being absorbed on a per hour basis, the amount of overhead absorbed is dependent on the actual
    number of hours worked for producing the output. Overhead Absorbed = Actual time (No. of hours) worked × Overhead
    Absorption Rate (per hour)

The overhead cost/expenditure absorbed would be interpreted as



         Absorbed Variable Overhead cost/expenditure for analyzing "Variable Overhead Variances"

         Absorbed Fixed Overhead cost/expenditure for analyzing "Fixed Overhead Variances"
Finding absorbed overhead using a basis other than that used for
absorption
The basis for absorption of overheads is something that is decided upon by the organization based on a number of factors.
Therefore, to know the amount of overhead absorbed we should know the basis of absorption that had been adopted.

This implies that

   Where overheads have been absorbed on per unit basis,

         Absorbed Overhead = Actual Units Produced × Rate of Overhead Absorption (per unit)

   Where overheads have been absorbed on per hour basis,

         Absorbed Overhead = Actual time (No. of hours) worked × Overhead Absorption Rate (per hour)

If we use a basis different from the one that had been used for absorbing overheads, the figure of absorbed overhead that we
arrive at would be erroneous. However, there is a possibility to find the overhead absorbed using the per hour basis when
they are absorbed on per unit basis and vice versa.

Thus,

   Where overheads have been absorbed on per unit basis,

         Overhead Absorbed = Actual Units produced × Overhead Absorption Rate/unit

                    (Or) = Standard Time (in hrs) for Actual Output × Overhead Rate/hour

   Where overheads have been absorbed on per unit time (hour) basis,

         Overhead Absorbed = Actual Time (in hrs) × Overhead Absorption Rate/hour

                    (Or) = Standard Output for Actual Time × Overhead Absorption Rate/unit




Illustration » Problem + Working Notes
Consider the following data relating to a production process for a period.


                                          Budget                   Actual
                             Cost         Rs. 5,00,000             Rs. 5,40,000
                             Output       50,000 units             52,000 units
                             Time         5,00,000 hours           5,80,000 hours

• Working Notes

» Budgeted Rate per unit

    Budgeted Overhead Cost
=-----------------------------------
     Budgeted Output

    Rs. 500,000
= ---------------------
     50,000 units

=Rs. 10/unit
» Budgeted Rate per hour


    Budgeted Overhead Cost
=-----------------------------------
     Budgeted hours

    Rs. 5, 00,000
=---------------------------
    5, 00,000 hrs


=Rs. 1/hr


Illustration » Solution (Overheads Absorbed On per unit basis)
Calculating absorbed overhead based on

» Unit Rate
Overhead Absorbed = Actual Units produced × Overhead Rate/unit
= 52,000 units’ × Rs. 10/unit


= Rs. 5,20,000

» Unit (time) hourly Rate
                                            Actual Output
Standard Time for actual output = -------------------------------× Budgeted Time
                                            Budgeted Output
      52,000 units
= -----------------------× 5,00,000 hours

      50,000 units

= 5,20,000 hours


Overhead Absorbed = Standard Time (in hrs) for Actual Output × Overhead Rate/hour
= 5,20,000 hours × Rs. 1/hour


= Rs. 5,20,000




Calculating absorbed overhead based on

» Unit (time) hourly Rate
Overhead Absorbed = Actual Time produced × Overhead Rate/hour
= 5,80,000 hours × Rs. 1/hour


= Rs. 5,80,000
» Unit Rate
Standard Output for actual Time

      Actual Time
=---------------------------× Budgeted Output
     Budgeted Time

    5,80,000 hours
=----------------------× 50,000 units
    5,00,000 hours

=58,000 units

Overhead Absorbed = Standard Output for Actual Time × Overhead Rate/unit
= 58,000 units’ × Rs. 10/unit
= Rs. 5,80,000

Overhead Absorbed = Standard Output for Actual Time × Overhead Rate/unit
= 58,000 units’ × Rs. 10/unit
= Rs. 5,80,000

								
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